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Notes from the Trading Desk – Franklin Templeton

Franklin Templeton’s Notes from the Trading Desk offers a weekly overview of what their professional traders and analysts are watching in the markets. The European desk is manned by eight professionals based in Edinburgh, Scotland, with an average of 15 years of experience whose job it is to monitor the markets around the world. Their views are theirs alone and are not intended to be construed as investment advice.

The Digest

Last week was again volatile for equity markets, with investors focused on rising inflationary pressure, central bank narrative and the threat of a US government shutdown. After a weak start to the week, markets recovered ground as the threat of a US government shutdown was averted. Although sentiment still feels brittle, markets ended the week in positive territory, with the MSCI World Index up 0.7% and regionally, the STOXX Europe 600 Index was up 1%, the S&P 500 Index was up 0.8%, whilst the MSCI Asia Pacific Index remained unchanged.

Inflationary Pressures Remain Front and Centre

As noted in recent weeks, investor focus was on inflationary pressures and the impact on bond markets as many government bond yields continue to widen. Intertwined with these issues is how central banks react and adapt to this environment.

It was hard to miss the price increases in energy markets given the extensive media coverage, with gas prices soaring—European gas is up 105% year-to-date (YTD) on restricted supply, rising demand and depleted storage facilities. Elsewhere, crude oil rose to levels last seen in 2014, topping US$80 per barrel. Other commodity prices also surged. There was some respite for gas markets midweek as Russia looked to calm nerves over supply, but prices remain elevated.

The pain felt by both industry and consumers on these soaring costs has also been clear. Although consumers in the United Kingdom are protected by energy price caps, the cost of higher input costs will certainly feed into consumer products. Over the weekend, Kraft Heinz CEO Miguel Patricio commented that inflation was “across the board” and that consumers will need to get used to higher food prices. Evidence of this is seen in the UN food price index, which is trading near record highs. Rising shipping/haulage costs, poor harvests in Brazil, droughts in Russia etc., are also factors leading to rising prices.

In this context, talk of inflationary pressures being transitory seems to be a distant memory. Market expectations for inflation are elevated. In the United Kingdom, the 10-year break inflation rate is at the highest level since 2008 and in Germany the same measure was at its highest level since 2013. Likewise in the United States, 10-year breakevens are moving back to recent highs, although not at the same extreme pace as the United Kingdom.

The impact of these strains on global economies is a key talking point, with the prospect of “stagflation”—rising inflation with little economic growth—a genuine concern.

That said, the US Purchasing Managers Index (PMI) data has remained in expansionary territory in the face of rising pricing pressures.

Whatever the true extent of future stagflation, the impact of inflationary pressures on bond yields is clear as the US 10-year Treasury yield has climbed to 1.61%, the UK 10-year gilt yield has climbed to 1.20%—its highest level since 2019, over 50 basis points (bps) wider than three months ago—and the German 10-year Bund yield climbed to -0.14% (+22 bps in the past three months).

Central Bank Reaction

In this context, the action of central banks in Europe was in focus as last week saw a surprise from the Polish central bank, which unexpectedly raised interest rates 40 bps to 0.5% because of inflationary pressures. The European Central Bank (ECB) continues to stick to a dovish path for now, but the Bank of England (BoE) is in focus as rhetoric from its members becomes increasingly hawkish and as the United Kingdom faces added pressures from Brexit dynamics.

Last week saw BoE Chief Economist Andy Haldane note: “magnitude and duration of the transient inflation spike is proving greater than expected”. Over the weekend, we also had the hawkish Monetary Policy Committee member, Michael Saunders, commenting that a tightening of policy may be “significantly earlier” than previously thought. Bailey also warned of a potentially “very damaging” period of inflation unless action is taken. With that, the market expects the UK interest rate to be at 75 bps by November 2022, vs. 10 bps currently, and expects a 25 bps hike by year end.

On the other hand, the ECB seems more concerned about the rising cost of capital and still believes the latest inflationary pressures are transitory. There were reports that the ECB was considering buying more bonds to prevent any market turmoil when emergency purchases get phased out next year.

In the United States, we will have another good steer on the Federal Reserve’s (Fed’s) thinking this week as the minutes from the last policy meeting are released. Whilst there is no expectation of a rate increase imminently, it is expected the Fed will begin to taper its emergency pandemic support in the coming months.

The Week in Review


European equities saw a large value-led rally last week to close higher. Nonetheless, market conditions feel very mixed at the moment as investors fight the overhang of central bank hawkishness, peak growth, rising commodity prices and supply chain issues. Rising bond yields helped fuel the rotation out of growth stocks, with inflation seemingly less transitory than first predicted. Over the next few weeks, attention will likely shift to corporate earnings season, where any hints around supply chain issues or cost inflation pressures are likely to be very closely watched. There was a cautious tone to fund flows last week as many investors rotated out of equities and into cash. Value stocks in Europe were favoured over momentum last week—the question is whether this trend will continue. Some market participants see value as still cheap by historical standards, with pockets of opportunity.

In terms of macroeconomic data, the Eurozone August Producer Price Index (PPI) was up 1.1% on the month and 13.4% year-over-year (Y/Y), slightly lower than expected Inflationary pressures in Europe remain strong, however. The final September PMI report confirmed slowing growth, coming in at 56.2 vs 59.0 previously. Rising price pressures and issues relating to supply shortages were key drivers there.

In Germany, the political discussion appears to be leading towards a “Traffic Light” government, made up of the centre-left SPD (Red), the pro-business Liberal FDP (Yellow) and the Greens parties. Talks continue, but the Christian Democratic Union (CDU) seems to be in a weak position, as leader Armin Laschet stated last week that he intends to step aside.

United States

US equities saw some respite at the end of last week following their recent slump. Despite that, volatility remains relatively high, with the VIX Index spiking back to 24 mid-week. The same themes continue to be in focus, with the discussion around stagflation front and centre. The heightened push and pull surrounding the higher-profile themes/debates, including “buy-the-dip vs sell-the-rip”, has left the market feeling very mixed of late.

The September non-farm payroll print was weaker than expected, a huge miss, showing a rise of 194,000 vs. expectations for an increase of 500,000. In terms of sectors, energy stocks, the year-to-date outperformer in the United States, led again. Financials were also higher, while real estate investment trusts (REIT) remain under pressure and were last week’s underperformers.

The potential debt ceiling crisis has been an overhang over US markets of late. Last Wednesday, Democrats said they could accept a surprise offer from Senate Minority Leader Mitch McConnell to raise the debt limit for two months. Republicans had offered the short-term debt limit increase that would last into December, and Democrats signalled their intention to accept the deal. However, this simply shifts the problem to December, a time when equity market liquidity becomes more constrained. It is also a time where the market is more likely to be grappling with the threat of tapering. So, whilst equity markets felt a little relief last week on the announcement, there is a feeling that what was agreed is simply a case of “kicking the can down the road”.

Last week’s big economic release was the September employment report on Friday. Employment figures have been a clear focus for the Fed. September payrolls grew by 194,000, far below expectations and below the 366,000 rise in August. The release noted gains in leisure/hospitality, professional/business services, and retail (all areas of recent strong growth), while public education jobs declined. The unemployment rate dropped to 4.8%, better than expectations and better than the prior month’s 5.2% level.

The big question remains around what this means for Fed tapering plans. Fed Chair Jerome Powell had said he felt the employment test for tapering had been “all but met” and he was not looking for a “knockout” September report. For the market, the miss was received well, as many touted “bad news is good news” and felt the Fed may soften its growing hawkish commentary.

Whilst a handful of meaningful macro themes rumble on, the market will now have the latest earnings season to deal with this week. JP Morgan reports earnings on Wednesday, followed by Citigroup, Bank of America, Wells Fargo and Morgan Stanley on Thursday, and Goldman Sachs on Friday.

Asia and Pacific

A mixed bag for Asian markets last week, with Australian equities up 2% (on commodity strength), while equities in Hong Kong were up1%, South Korea’s equity benchmark was down 2% and Japan’s Nikkei Index was down 2.5%. It was a quieter week as China was mostly closed for Golden Week holidays.

The weak performance in Japan has been referred to by some as the “Kishida shock” as it followed Prime Minister Kishida’s inauguration. There are fears that he is looking to raise capital gains taxes, something which spooked the market and forced the administration to state he’s not considering changes to Japan’s capital gains tax because he’s focused on other aspects of his policy agenda.

Elsewhere, tension between China and Taiwan remains heightened as Chinese warplanes performed a number of flights in Taiwanese airspace and China’s President Xi Jinping stated unification will be achieved. In response, Taiwanese President Tsai Ing-Wen stated the island faced “unprecedented challenges”.

Week Ahead

Monday 11 October 2021:

  • China: aggregate financing CNY, money supply, new yuan loans CNY, foreign direct investment (FDI) YTD, year-on-year (Y/Y) CNY
  • Japan: machine tool orders Y/Y
  • Italy: Industrial Production (IP)
  • Bond markets will be closed in the United States and Canada for the US Columbus Day/Indigenous People’s Day holiday and Canada’s Thanksgiving Day.

Tuesday 12 October:

  • UK: British Retail Consortium (BRC) sales like-for-like Y/Y
  • Japan: bank lending, PPI YoY
  • Australia: National Australia Bank (NAB) business conditions and business confidence
  • Germany: wholesale price index Y/Y
  • UK: Employment data
  • Germany: ZEW Survey expectations, Germany ZEW Survey current situation
  • Eurozone: ZEW Survey expectations
  • US: NFIB small business optimism, JOLTS job openings
  • Canada: Bloomberg nanos confidence

Wednesday 13 Wednesday:

  • Australia: Westpac consumer confidence index
  • Japan: Money stock, core machine orders Y/Y
  • UK: IP Y/Y, manufacturing production Y/Y, construction output Y/Y, index of services three-month/ three-month, visible trade balance GBP/Mn, monthly gross domestic product (GDP) (month-on-month), monthly GDP (three-month / three-month)
  • Germany: Consumer Price Index (CPI)
  • Eurozone: IP WDA Y/Y
  • US: MBA mortgage applications, CPI Y/Y, CPI (ex food and energy) Y/Y, CPI core index SA, real average hourly earnings Y/Y, real average weekly earnings Y/Y, Federal Open Market Committee (FOMC) meeting minutes
  • China: trade balance CNY, imports and exports Y/Y CNY, trade balance, imports and exports Y/Y

Thursday 14 October:

  • UK: Royal Institution of Chartered Surveyors (RICS) house price balance
  • Australia: consumer inflation expectation, employment change, unemployment rate
  • China: CPI Y/Y, PPI Y/Y
  • Japan: IP Y/Y
  • Spain: CPI
  • UK: BoE bank liabilities/credit conditions surveys
  • US: Initial jobless claims, continuing claims, PPI final demand Y/Y, PPI (ex food and energy) Y/Y, PPI (ex food and energy), trade Y/Y

Friday 15 October:

  • Japan: Bloomberg October Japan economic survey
  • Eurozone: EU27 new car registrations
  • France: CPI
  • Italy: CPI
  • Eurozone: trade balance
  • Italy: trade balance
  • US: Empire manufacturing, retail sales (ex automobiles and gas), retail sales control group, import and export price index Y/Y, business inventories, University of Michigan sentiment and current conditions


Franklin Templeton Key risks & Disclaimers:

What Are the Risks?

All investments involve risk, including possible loss of principal. The value of investments can go down as well as up, and investors may not get back the full amount invested. Stock prices fluctuate, sometimes rapidly and dramatically, due to factors affecting individual companies, particular industries or sectors, or general market conditions. Bond prices generally move in the opposite direction of interest rates. Thus, as prices of bonds in an investment portfolio adjust to a rise in interest rates, the value of the portfolio may decline. Investments in foreign securities involve special risks including currency fluctuations, economic instability and political developments. Investments in developing markets involve heightened risks related to the same factors, in addition to those associated with their relatively small size and lesser liquidity. Past performance is not an indicator or guarantee of future performance.

This article reflects the analysis and opinions of Franklin Templeton’s European Trading Desk as of 12th October 2021, and may vary from the analysis and opinions of other investment teams, platforms, portfolio managers or strategies at Franklin Templeton. Because market and economic conditions are often subject to rapid change, the analysis and opinions provided may change without notice. An assessment of a particular country, market, region, security, investment or strategy is not intended as an investment recommendation, nor does it constitute investment advice. Statements of fact are from sources considered reliable, but no representation or warranty is made as to their completeness or accuracy. This article does not provide a complete analysis of every material fact regarding any country, region, market, industry or security. Nothing in this document may be relied upon as investment advice or an investment recommendation. The companies named herein are used solely for illustrative purposes; any investment may or may not be currently held by any portfolio advised by Franklin Templeton. Data from third-party sources may have been used in the preparation of this material and Franklin Templeton (“FT”) has not independently verified, validated or audited such data. FT accepts no liability whatsoever for any loss arising from use of this information and reliance upon the comments, opinions and analyses in the material is at the sole discretion of the user. Products, services and information may not be available in all jurisdictions and are offered by FT affiliates and/or their distributors as local laws and regulations permit. Please consult your own professional adviser for further information on availability of products and services in your jurisdiction. 

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